While guidance and legislation continue to come from all sides of government, we have to think about the tax ramifications the new Coronavirus Aid, Relief and Economic Security Act will have and how you as a farmer can plan and possibly benefit.
Here are the big items in the recent CARES Act followed by some tax planning tips for farmers:
The big news everyone has been hearing about are the rebate checks that many taxpayers will receive in the coming weeks.
Single taxpayers with an adjusted gross income up to $75,000; Head of Household with an adjusted gross income up to $112,500; and Married Filing Jointly with an adjusted gross income up to $150,000 will receive $1,200 — $2,400 for Married Filing Jointly — so long as they are not a dependent of another individual and have a working Social Security number.
There is also a $500 refund per child. Taxpayers with adjusted gross incomes over these amounts will receive a reduced credit amount. Single filers over $99,000, HOH filers with one child and over $146,500, and MFJ filers over $198,000 with no children will receive nothing.
This rebate will be based on your 2019 tax return if it is complete. Otherwise, it will be based on the 2018 tax return.
These checks are intended to be an advance payment of a tax credit on a taxpayer’s 2020 tax return. Based on the language of the law, it looks like this was written in a taxpayer-friendly way where a taxpayer will not owe money if 2020’s income is higher than in 2019 and may be eligible for a larger credit if, for example, 2020’s income was lower than 2019’s.
Tax planning tip: Given the flexibility farmers have with expensing depreciable assets through section 179 and bonus depreciation, as well as income deferral, it makes sense to talk to your tax preparer to determine the best way to qualify for the rebate. Work closely with your tax preparer to maximize this refund.
Tax relief for retirement account access
The typical 10% penalty for early withdrawals has been waived for distributions up to $100,000 from qualified retirement accounts for the following situations:
- If you’re diagnosed with COVID-19
- If you have a spouse or dependent diagnosed with COVID-19
- If you experience adverse financial distress as a result of a job loss, quarantine, reduction in hours, closing or reducing hours of a business, or are unable to work due to lack of childcare
The income tax on these distributions will be subject to tax over a three-year period. Under these rules, the taxpayer can also recontribute these funds, turning the distribution effectively into a loan via a tax-free rollover.
Tax planning tip: For taxpayers taking out distributions who also own a business, it is critical to work with your tax preparer to see if there are business losses to offset the taxes on those distributions. For example, under the current rules orchards and vineyards can depreciate 100% of new plantings. If the costs of those orchards or vineyards are significant, and the farmer chooses to expense those plantings immediately, this may create a business loss. That business loss could possibly offset the qualified retirement distributions.
The act also has a waiver for Required Minimum Distributions for the 2020 calendar year. This will be helpful as taxpayers will not be required to take these distributions during a time when these accounts are experiencing losses.
Additionally, for taxpayers looking to borrow from their retirement plans, the loan amount has been increased from $50,000 to $100,000. The limitation on taking out only 50% of the balance has also been removed. Those with outstanding loans are also provided relief as there are provisions to delay repayment.
Net operating losses
Net operating losses are now allowed to be carried back again as the rules were amended to provide for a five-year carryback for the 2018-20 tax years.
Furthermore, during this time, the 80% limitation on the amount of income that the net operating loss could offset has been removed.
Tax planning tip: Some taxpayers in 2018 were negatively impacted by the tightening of the NOL rules. These taxpayers should work closely with their tax preparers to revisit those situations. The utilization of losses could result in significant tax refunds, which is the intended effect of the CARES Act.
Excess business losses
The Tax Cuts and Jobs Act limited a taxpayer’s business losses — $500,00 limit for MFJ — against non-business income such as dividend income. The CARES Act removes this limitation for losses arising in the 2018-20 tax years. The excess loss rules will be reinstated again in 2021 and last through 2025.
Tax Planning Tip: Taxpayers need to work closely with their tax preparers to take a multiyear tax planning approach to maximize both the net operating loss rules and the relaxation of the excess business loss rules. Since these rules reemerge in 2021, a multiyear analysis on non-business income realization is warranted.
Business interest limitation deduction
Taxpayers with average annual gross receipts of less than $25 million for the three prior tax years are not constrained by the interest deduction limitation put in place by the Tax Cuts and Jobs Act.
For taxpayers who are above that limit, the CARES Act increased the 30% threshold to 50%. Previously, the deduction of business interest expense was limited to the sum of business interest income — 30% of adjusted taxable income and floor plan financing interest expense.
For partnerships that are limited by the business interest limitation deduction, the nuances of the CARES Act are more complex, and you should seek guidance from your tax preparer.
Tax Planning Tip: For farmers who are impacted by the business interest limitation deduction, the rules allow eligible farming businesses to elect out of the business interest limitation deduction. However, the tradeoff is that those farmers must use a slower depreciation method. A thorough analysis should be completed as it could have negative consequences, particularly for orchards and vineyards.
Deferment of Social Security taxes
Employers, as well as self-employed individuals, can defer the 6.2% employer share of Social Security taxes for their employees. Under this provision, these deferred taxes must be paid over the following two years — half by Dec. 31, 2021, and the remaining half by Dec. 31, 2022.
This provision will not apply to taxpayers who have loans forgiven under the Small Business Act or section 1109 of the CARES Act.
Tax planning tip: Many farmers, particularly dairy farmers with large 199A cooperative deductions, generally owe little federal income tax but do owe significant Social Security taxes. Delaying the payment of self-employment tax under this provision could be a good strategy to improve cash flow.
Employee retention credit
There is a refundable credit worth 50% of wages paid by employers — for the first $10,000 of compensation, including health benefits per employee — who have had operations interrupted due to COVID-19, or had a decline of more than 50% in gross receipts — comparing the quarter to the same quarter in the prior year.
There are differences based on whether the employer has more than 100 full-time employees. For those under 100 employees, all wages will qualify regardless of the current status of the business. For those with more than 100 employees, only wages paid to employees when not providing the services will qualify — i.e., those employees who had reduced hours. The wages must be paid or incurred from March 13, 2020, through Dec. 31, 2020.
The CARES Act prohibits “double dipping” by not permitting this credit to those who are receiving Small Business Interruption loans or the Work Opportunity Tax Credit. Additionally, wages utilized in this provision can’t be utilized for the employer credits under section 45S.
The situation with COVID-19 remains very fluid, with additional guidance coming out each day. In times like this it is critical that taxpayers maintain an open line of communication with their tax preparers to successfully navigate the changing rules.
Arezzo is a senior tax consultant with Farm Credit East.